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Archives: 12/2006

A banner headline and photo in the Business section of the Washington Post show former Enron CEO Jeffrey Skilling reporting to prison to begin serving a 24-year term for fraud and conspiracy. (Note that federal sentences don’t allow for much parole; Skilling must serve at least 85 percent of his sentence.) Sidebars depict other jailed corporate executives: Bernard Ebbers of WorldCom, 25 years; Dennis Kozlowski of Tyco, 8 to 25 years; John Rigas of Adelphia, 15 years (being appealed).

Three years ago, Fannie Mae assured lawmakers that it had the required capital to cope with a broad variety of business setbacks.

Since 1992, “Fannie Mae has met or exceeded our capital requirements in every year,” Franklin D. Raines, then its chief executive, testified in September 2003. “Indeed, we are one of the best-capitalized financial institutions in the world, when compared to the risk of our business.”

As it turns out, the assurance was false.

Will Raines and other executives face lengthy jail terms for their repeated and massive accounting misrepresentations, which resulted in multi-million-dollar bonuses for the executives? It doesn’t look likely. Criminal charges against the company itself have been ruled out. The government may seek to recover millions of dollars from executives who received massive bonuses on the basis of the manipulated earnings statements, but there seem to be no plans to pursue criminal prosecution of these sophisticated Washington insiders.

There may well be good legal reasons why Enron and WorldCom executives were guilty of crimes punishable by 25 years in jail, while Fannie Mae executives were guilty only of outrageous behavior. But one can’t help wondering if the difference is related to yet another tiny story in the Post’s Business section on the same day: “Fannie Breaks Record On Lobbying Outlay.”

Some background on the fundamental problems with Fannie Mae and other government-sponsored enterprises here.

The printing of the Arabic edition was gorgeous, as were the cool brochures and other materials that Fadi and Ghaleb had produced in Jordan. The entire report in Arabic is available online now for downloading in PDF format. The availability of such thorough-going comparisons should, I hope, introduce a greater degree of cause-and-effect thinking into discussions of policy, which would be a great advance over the conspiracy theorizing that is unfortunately so common in the Middle East. (Besides all the data, it includes William Easterly’s hard-hitting critique of “foreign aid,” “Freedom vs. Collectivism in Foreign Aid.”)

The printed edition of the report was also delivered to the economics and politics editors at An Nahar, Al Hayat, and other papers (many more are in the mail) and will be distributed at the upcoming meeting of Arab economists in Kuwait this weekend. Congratulations to Fadi and Ghaleb and their team for such a success.

Our colleague Andrei Illarionov gave a remarkable presentation, based on statistical data, on the roots of economic stagnation in the Arab Middle East. A condensed version will appear in the Arabic press, and — if I can cajole him — in English, Spanish, Russian, and other languages.

How close are we to enjoying truly free educational marketplaces in this country? Not very, according to our newly released Cato Education Market Index (CEMI).

Well over a year in the making, CEMI measures how closely existing school systems resemble free markets and rates education policy proposals on their conduciveness to the rise of markets. The verdict? No state in the nation even comes close. The two top scoring states, Wisconsin and Connecticut, tied with a score of 26 out of 100.

Why is Wisconsin – with its vouchers, charter schools, and public school choice – rated so low? Why is Connecticut – which lacks vouchers and has few charter schools – rated the same?

The answer to the first question is that Wisconsin’s voucher program enrolls only about 1 percent of the state’s students, while its charter schools only enroll about 3 percent. These numbers are too low to have a significant impact on the level of education market activity statewide. And public school choice just isn’t close to real market activity because public schools are too standardized by state and disctict policies and regulations, can’t be operated for profit, don’t charge tuition, and neither open nor close exclusively in response to consumer demand.

Connecticut has among the most public school choice and the least intrusive public school regulation in the country, along with a truly free private education sector that is larger than the national average. But private schools serve only 11 percent of the state’s population, so it, too, only rates a 26.

Anyone interested in how the numbers were crunched can have a look the paper linked to above. The brave of heart may also want to dig into the uber-Excel spreadsheet that contains all the input data (100 data points per state), the calculations, and the tabulated results.

The full technical report contains regression analyses showing that higher CEMI ratings are correlated with both higher test scores and higher graduation rates.

This morning, pursuant to a five-year “Sunset Review,” the U.S. International Trade Commission voted to revoke longstanding antidumping and countervailing duty restrictions against imported carbon steel plate and corrosion-resistant steel from 15 different countries. The ITC also voted to continue the measures against corrosion-resistant steel from Korea and Germany for at least another five years.

While not perfect, today’s outcome is something to rejoice. Revocation of trade remedy restrictions is rare, indeed, and rarer still where steel is concerned.

As described in this recent paper, the U.S. steel industry is doing phenomenally. And given the dramatic growth in demand for steel in other regions of the world, today’s decision is unlikely to produce a significant surge in U.S. steel imports. But at least now, U.S. steel consuming industries, which have been forced to endure some of the highest steel prices in the world on account of the limited competition, will have greater flexibility and negotiating leverage to counter the growing market power of the domestic steel industry.

The authors of the report are convinced that America’s reliance on foreign oil is a dangerous thing. But why? Panicky narratives abound, but none of them are particularly well informed.

Consider the widespread concern about the prospect of being cut off from supply. Relying on foreign producers for oil means that we might find ourselves without physical access to petroleum if those foreign producers were to decide to shut us out. But that worry is only plausible if you fail to understand and fully appreciate the fungible nature of the global oil market. As MIT oil economist M.A. Adelman once wrote:

Rarely has a word [“access”] been so compact of error and confusion. Nobody has ever been denied access to oil: anyone willing to pay the current price could have more than he wanted. One may assume what he likes about future demand, supply, and market control, and conclude that the future price will be high or low, but that price will clear the market in the future as in the past. The worry about “access” assumes something queer indeed: that all of the producing countries will join in refusing to sell to some particular buyer—for what strange motive is never discussed … it takes only one other country, with a desire for gain, to cure this irrationality.

The “embargo” of 1973–4 was a sham. Diversion was not even necessary, it was simply a swap of customers and suppliers between Arab and non-Arab sources… . The good news is that the United States cannot be embargoed, leaving other countries undisturbed.

In short, the only way for producers to keep their oil out of America is to impose a military blockade of U.S. ports. Market agents – not agents of the producer states – decide where oil goes when it enters the market. As long as someone is willing to buy oil from a producing state and then sell it to the United States, no shut off is possible absent military force.

OK, so physical access isn’t the problem – our vulnerability to producer-induced price spikes is the real worry. Or is it?

Recent macroeconomic studies suggest that the economy is nowhere near as vulnerable to oil-induced recessions as once thought. How else to explain the world’s gangbuster economic performance in the teeth of the present price spike?

Nor is it reasonable to fear that producers might shut down drilling platforms in an act of global economic spite. Producers need oil revenues more than consumers need the oil. Even vitriolic anti-American regimes such as revolutionary Iran, Iraq under Saddam Hussein, and Libya prior to our recent rapprochement, have shown no interest in committing the economic and political suicide entailed in shutting down the only significant source of revenue they have.

Supply disruptions can and do happen, but they have historically tended to be modest and temporary. Over the past 50 years, we’ve had 12 supply crises with an average of a 5.4 percent reduction in global oil supply for each event, and none of those supply disruptions lasted for more than 9 months.

Question #1 – don’t market agents have every incentive to insure against such events? That, after all, is what futures contracts, oil inventories, and energy efficient technologies are for. To argue that government must act to hedge against such possibilities is to argue that governmental actors are better risk managers than market actors. And that is a fairly dubious proposition.

Question #2 – what sense does it make to say goodbye to an energy source that is cheap most of the time but expensive some of the time (oil) and hello to an energy source that is expensive all of the time but presumably more price stable (biofuels)? If any individual company or consumer wants to go that route, then fine. But why should the government dictate energy choices for every single person and corporate entity in the United States? Are market actors so incapable of making intelligent decisions about what to buy that the feds have to step in? And if so, why not have the feds grab the reins in other sectors of the economy?

The final worry is that our dependence on foreign oil requires military expenditures and foreign policy contortions to keep producers safe and friendly. But this is nonsense. If the U.S. didn’t pay to secure oil production and tanker traffic abroad, producers would do so as long as the marginal costs associated with security expenditures were less than the marginal benefits associated with oil production – as they certainly are. The U.S. military “oil mission” is really a welfare program in disguise. And friendly relationships have nothing to do with it. As noted above, without oil revenues, producing states could not pay their troops, fund their secret police, build luxurious palaces, or even feed their people (read: keep riots from breaking out). Whether they like us or not, they have to produce, and as long as they produce, we will have oil to buy as long as we are willing to pay the market clearing price.

All of this is well known and completely uncontroversial to oil economists of the Left, Right, and Center. But it’s a complete revelation to foreign policy mavens and military professionals, who simply do not understand a single thing about the oil market. Unfortunately, too many people in Washington listen to the latter but not the former.

And yes, it simply kills me to see that Cato board member Fred Smith (CEO of Federal Express) is one of the two co-chairmen of the group that issued this report.

Jack Wenders, professor emeritus of economics at the University of Idaho, passed away at the end of November. Jack was a tireless champion of reason and liberty, and was very well known in Idaho for pointing out the shortcomings of the state’s bureaucratic, monopolistic school system, and how they could be overcome through parental choice and market incentives. I met Jack at a conference back in 2004 and was impressed not only by his knowledge but by his passion for the work. He will be missed by everyone at Cato who knew him.